CPA Auditing and Attestation Aud

CPA Auditing and Attestation Aud Practice Test: Practice Test 9

Practice Test 9 for CPA Auditing and Attestation Aud: real questions and explanations from the Varsity Tutors practice-test pool.

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Question 1 of 25

An issuer medical device company is audited under PCAOB standards. The auditor plans to rely on a third-party valuation specialist’s report for stock-based compensation, but the report was commissioned by management, includes a limitation of liability to management only, and uses inputs inconsistent with observable market volatility. What should the auditor consider when evaluating evidence reliability?

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Question 1

The report is fully reliable because it was prepared by a specialist, so the auditor should not challenge the assumptions.
Assess the specialist’s competence and objectivity, evaluate the methods and significant assumptions (including inconsistencies with market data), and obtain sufficient appropriate evidence beyond management’s commissioned report as necessary. (correct answer)
Accept the report because PCAOB standards require auditors to use management’s specialists without modification.
Ignore the report and automatically qualify the opinion because any limitation of liability makes the evidence unusable without exception.

Explanation: This question assesses the auditor's judgment in evaluating the reliability of evidence from a management's specialist under PCAOB standards for an issuer. Critical elements include the specialist's report being commissioned by management, containing a liability limitation, and using assumptions inconsistent with market data for stock-based compensation valuation. Assessing the specialist's competence and objectivity, evaluating methods and assumptions for inconsistencies, and obtaining additional evidence as needed adheres to PCAOB AS 1210, which requires auditors to test the specialist's work and ensure its appropriateness for audit purposes. Accepting the report without challenge or because it was prepared by a specialist, as in choices A and C, is incorrect as AS 1105 mandates auditors to evaluate evidence reliability independently, not defer entirely to management. Ignoring the report and qualifying the opinion outright, per choice D, overstates the impact without first applying evaluative procedures under AS 2501. Auditors should apply a risk-based framework by scrutinizing specialist inputs against external data to form an independent conclusion. This principle reinforces that professional skepticism extends to all sources of evidence, promoting corroboration to achieve reasonable assurance.

Question 2

A successor accountant is reviewing a nonissuer's current-period financial statements. The prior-period financial statements, which were compiled by a predecessor accountant, are also presented. The predecessor's report is not reissued. What should the successor accountant do?

Perform a full review of the prior-period financial statements to provide assurance on them.
Insist that the client have the predecessor accountant reissue their report.
Include an other-matter paragraph in the current-period report referencing the predecessor's report on the prior period. (correct answer)
State in the report that a review of the prior-period financial statements was not performed and no assurance is given.

Explanation: When a predecessor accountant's report is not reissued, the successor accountant should include an other-matter paragraph in their report on the current period. This paragraph should state that the prior-period financial statements were handled by another accountant, the type of service performed (compilation), the date of the report, and the assurance (or lack thereof) provided.

Question 3

You are auditing an issuer and identified a key control over financial reporting: the audit committee reviews quarterly financial statements and discusses significant accounting estimates with management. You plan to evaluate this as part of the control environment and monitoring components. Which procedure is most appropriate to test the effectiveness of this control?

Inspect audit committee minutes and related materials to verify the committee reviewed the quarterly statements and challenged significant estimates, including follow-up actions (correct answer)
Obtain a management representation letter stating the audit committee performed its oversight responsibilities
Perform substantive analytical procedures over quarterly results and treat consistent trends as evidence of effective audit committee oversight
Communicate directly with the SEC to confirm the audit committee performed the review control

Explanation: This question evaluates testing governance controls like audit committee oversight in an issuer's audit, per PCAOB AS 2201 and AS 1301. The committee reviews quarterly statements and estimates. Choice A is correct by inspecting minutes and verifying challenges, aligning with AS 2201. Choice B relies on representations, insufficient per AS 2805, while Choice C is substantive per AS 2305. Choice D is inappropriate; auditors do not contact regulators for control evidence. A framework is to corroborate meeting discussions with actions taken. This supports control environment assessment for reliance.

Question 4

An auditor performs a procedure that involves vouching a sample of entries in the sales journal to shipping documents and customer orders to verify both the existence of the sale and the proper authorization of the transaction. This procedure is an example of a(n):

Test of details of balances.
Analytical procedure.
Dual-purpose test. (correct answer)
Test of the control environment.

Explanation: The correct answer is C. A dual-purpose test is an audit procedure that serves as both a test of controls and a substantive test of details for the same transaction. In this case, examining the customer order for authorization tests the control, while vouching the sale to the shipping document provides substantive evidence about the occurrence assertion.

Question 5

An issuer technology company is audited under PCAOB standards. During substantive testing of revenue (occurrence and cutoff), the auditor identifies multiple sales recorded on the last day of the year with shipping documents dated two days after year-end and extended payment terms not in the master contract. What is the best response to identified misstatements?

Propose an adjustment for the identified items and expand cutoff testing around year-end to determine whether misstatements are isolated or systemic (correct answer)
Accept management’s explanation that the shipping documents were processed late and treat the items as trivial without further work
Discontinue substantive testing and rely on management representations because PCAOB standards emphasize controls over revenue
Communicate the issue only to the internal audit function and take no further audit action

Explanation: This question tests the auditor's response to misstatements under AS 2810 in a PCAOB audit, emphasizing evaluation and further procedures. Key facts include sales recorded prematurely with post-year-end shipping and non-standard terms, indicating cutoff and occurrence issues. Proposing adjustments and expanding cutoff testing aligns with AS 2810.12's requirement to accumulate and evaluate misstatements for systemic patterns. Accepting explanations without work (B) ignores AS 2401's fraud considerations, while discontinuing testing (C) violates AS 2301's substantive requirements. Communicating only to internal audit (D) bypasses AS 1301's governance reporting. A framework involves aggregating misstatements quantitatively and qualitatively, considering intent and pervasiveness. Professional judgment dictates extending procedures when errors suggest broader risks, ensuring adjustments reflect true economic substance.

Question 6

A nonissuer construction contractor is audited under AICPA standards and prepares cash-basis financial statements for a state licensing renewal. The statements include a statement of assets and liabilities and a statement of revenues and expenses but omit substantially all disclosures. The auditor concludes the cash-basis statements are otherwise fairly presented. Which opinion should the auditor express?

Unmodified opinion because disclosures are not required under the cash basis of accounting.
Qualified opinion due to a departure from the cash basis of accounting for omitted disclosures, unless the omission is so pervasive that an adverse opinion is warranted. (correct answer)
Adverse opinion because any omission of disclosures in a special-purpose framework requires an adverse opinion.
Disclaimer of opinion because cash-basis statements cannot be audited under AICPA standards.

Explanation: This question tests AU-C Section 800, which covers audits of special-purpose frameworks such as the cash basis, including requirements for disclosures. The key facts are that the cash-basis statements omit substantially all disclosures but are otherwise fairly presented for state licensing purposes. The correct answer aligns with AU-C 800 by requiring a qualified opinion for material departures from the framework, such as omitted disclosures, or an adverse opinion if pervasive. Choice A is incorrect because disclosures are required under AU-C 800 for special-purpose frameworks to achieve fair presentation, while Choice C is wrong as an adverse opinion is not automatic but depends on pervasiveness. Choice D is incorrect because cash-basis statements can be audited under AICPA standards, provided the framework is acceptable. When omissions in special-purpose frameworks are material, auditors evaluate pervasiveness to decide between qualified and adverse opinions. A decision rule is to consider if omitted information prevents users from understanding the statements in context of the framework, potentially leading to modified opinions.

Question 7

An issuer financial services company is audited under PCAOB standards. The auditor learns that the company violated a debt covenant that triggers an acceleration clause, but management has obtained a waiver after year-end and classified the debt as long-term without adequate disclosure of the violation and waiver terms. The auditor concludes the disclosure is required under the applicable financial reporting framework. Which compliance reporting action should the auditor take?

Issue an unmodified opinion because the waiver was obtained after year-end and therefore eliminates any disclosure requirement
Require management to correct the classification/disclosure; if management refuses and the misstatement is material, modify the opinion for a departure from the applicable reporting framework (correct answer)
Report the covenant violation directly to the lender because PCAOB standards require the auditor to notify creditors
Address the matter only by increasing substantive testing of debt balances and not evaluating disclosure completeness

Explanation: This question tests PCAOB AS 2810 on evaluating contingencies and debt classifications, including covenant violations and waivers. The key facts are the violated covenant triggering acceleration, post-year waiver, incorrect long-term classification, and inadequate disclosure. Choice B is correct as AS 3105 requires modifications for material departures from the framework if management refuses corrections. Choice A is incorrect because waivers do not eliminate disclosure requirements under ASC 470 if violations occurred; choice C is wrong as PCAOB does not require notifying creditors; choice D is incorrect because disclosure evaluation is necessary beyond substantive testing per AS 2810. A professional rule is to assess classifications and disclosures for compliance with ASC 470, proposing adjustments as needed. Auditors should modify opinions based on the materiality of omitted disclosures.

Question 8

For a firm's system of quality management to be effective, its policies and procedures must be appropriately communicated to its personnel. This communication should primarily ensure that personnel:

Are aware of the firm's financial performance and strategic goals.
Can explain the firm's quality management system to external parties, such as potential clients.
Understand their roles and responsibilities within the system and the importance of performing quality work. (correct answer)
Receive a copy of the firm's most recent peer review report and management's response.

Explanation: The correct answer is C. The core purpose of the information and communication component is internal. It is to ensure that all personnel understand the quality management system, their specific roles within it, and the firm's expectation that quality is paramount. This enables them to act appropriately in fulfilling their responsibilities. A, B, and D relate to other types of firm communication but are not the primary purpose of communicating the quality management system itself.

Question 9

A practitioner is planning a review engagement of interim financial statements for a nonissuer entity. The entity changed its inventory costing method during the quarter and recorded a large cumulative adjustment. Based on the entity's environment, what should be considered in the review plan?

Perform additional inquiries and analytical procedures focused on the change in accounting principle and evaluate whether disclosures appear appropriate (correct answer)
Perform tests of controls over inventory costing because a review requires obtaining sufficient appropriate audit evidence through control testing
Issue an opinion on the fairness of the interim financial statements because the adjustment is large
Defer consideration of disclosures until the annual audit because interim reviews do not address disclosures

Explanation: This question tests planning procedures in a review of interim financial statements under AR-C Section 90. The key facts involve a change in inventory costing with a large cumulative adjustment, requiring evaluation of consistency and disclosures. Performing additional inquiries and analytics aligns with AR-C 90, which requires procedures to address significant changes and assess disclosures. Performing control tests (choice B) exceeds review-level assurance per AR-C 90, and issuing an opinion (choice C) is inappropriate for reviews. Deferring disclosures (choice D) ignores AR-C 90's requirements. Practitioners should tailor review procedures to unusual items and changes. This rule ensures reviews provide limited assurance on interim information effectively.

Question 10

You are performing an attestation engagement for a nonissuer on management’s assertion about compliance with a debt covenant (minimum current ratio). The client’s current liabilities include a significant accrual for bonuses, and management calculated the covenant using an internal worksheet that excludes the accrual as “noncurrent in substance.” The loan agreement language is ambiguous and internal controls over covenant calculations are informal. Which procedure provides the most reliable evidence regarding whether the covenant was met?

Accept management’s worksheet because covenant calculations are management’s responsibility and outside the practitioner’s scope.
Inspect the executed loan agreement and obtain written clarification from the lender (or legal counsel) regarding the definition of current liabilities for covenant purposes, then recalculate using audited balances. (correct answer)
Rely on inquiry of the chief financial officer about how the covenant has been interpreted historically.
Issue an adverse conclusion because ambiguity in the agreement automatically means noncompliance.

Explanation: This question tests AT-C Section 205, which requires sufficient evidence in attestation engagements for nonissuers on compliance assertions. The key facts include ambiguous loan terms, exclusion of bonuses, and informal controls. Option B aligns with AT-C 205 by inspecting agreements and obtaining clarifications for recalculation using audited data. Option A is incorrect as AT-C 105 requires practitioner responsibility for evidence; Option C is wrong because AT-C 205 needs more than inquiry; Option D is incorrect under AT-C 205 as ambiguity requires resolution, not automatic adverse. Options A, C, and D lack corroboration. A framework is to clarify criteria with external sources in ambiguous attestations. Practitioners should reperform calculations with verified inputs for reliability.

Question 11

An accounting firm is the auditor for a large defined contribution plan subject to DOL regulations. The plan sponsor is a publicly traded manufacturing company. Which of the following would cause the firm's independence to be impaired with respect to the plan?

The accounting firm maintains the plan's accounting records and prepares its financial statements. (correct answer)
The spouse of a non-attest partner in another office owns an immaterial amount of the plan sponsor's stock.
The accounting firm's consulting division performed a non-recurring human resources system implementation for the plan sponsor.
A new audit manager, not on the engagement team, has a fully collateralized car loan from a bank that is a directed trustee of the plan.

Explanation: The Department of Labor (DOL) considers an auditor's independence to be impaired if the audit firm also maintains the accounting records for the employee benefit plan. This creates a significant self-review threat and is a specific prohibition under DOL rules, which are generally stricter than AICPA rules in this area.

Question 12

A nonissuer distribution company is audited under AICPA standards and prepares cash-basis financial statements for a state tax authority. The tax authority requires the statements to exclude depreciation entirely, even for cash purchases of equipment, and management complies and discloses the policy. The auditor concludes the statements are fairly presented under that cash basis as modified by the filing requirement. Which aspect of the financial statements requires emphasis due to the special-purpose framework?

An emphasis-of-matter paragraph describing the cash basis (and the regulatory filing requirement, if necessary for clarity) as the applicable financial reporting framework. (correct answer)
A qualification paragraph because excluding depreciation is always a GAAP departure.
A scope limitation paragraph because the auditor cannot audit equipment under the cash basis.
A critical audit matters section describing the depreciation policy.

Explanation: This question tests AU-C Section 800, which requires emphasis for key aspects of special-purpose frameworks, including modifications like excluding depreciation in cash basis. The key facts are that the cash-basis statements exclude depreciation per regulatory requirements, with disclosures, and are fairly presented. The correct answer aligns with AU-C 800 by requiring an emphasis-of-matter paragraph describing the cash basis and filing requirement. Choice B is incorrect because exclusions per the framework are not GAAP departures, while Choice C is wrong as no scope limitation exists. Choice D is incorrect because critical audit matters are not AICPA requirements. Emphasis clarifies framework specifics. A decision rule is to highlight modifications to the basis if they aid user understanding, especially in regulatory contexts.

Question 13

An issuer is being audited under PCAOB standards. The auditor receives a journal entry listing and transforms it to identify entries posted outside normal business hours; the auditor finds the time stamp field was converted to the auditor’s local time zone, changing the apparent posting time. Based on the audit findings, how should the data be adjusted before drawing conclusions from the analytics?

Convert all time stamps to dates only, because time-of-day analysis is inherently unreliable.
Re-transform the data using the company’s system time zone (or retain the original time stamp field), document the time zone assumption, and re-run the after-hours analysis on the corrected field. (correct answer)
Keep the converted time stamps and adjust the definition of 'after hours' to match the auditor’s local time.
Use inquiry alone to determine whether journal entries were posted after hours and discontinue the analytics.

Explanation: PCAOB AS 2315 requires accurate data in analytics like identifying after-hours journal entries, addressing transformation errors such as time zone conversions. The key fact is the time stamp conversion to the auditor's local time, altering posting times. Choice B is correct as re-transforming with original time zones and documenting assumptions ensures integrity per AS 1105. Choice A is incorrect as converting to dates loses precision; Choice C is incorrect because adjusting definitions does not correct data; Choice D is incorrect as inquiry alone is insufficient. Auditors should framework by retaining original fields and validating assumptions. This approach is transferable to time-sensitive data analytics.

Question 14

An auditor develops a predictive model to independently estimate the company's allowance for doubtful accounts. The model's output provides an estimated allowance of $500,000. The company has recorded an allowance of $950,000 in its financial statements.

What is the most appropriate interpretation of this significant difference?

The auditor's model is flawed and must be adjusted to align with management's estimate.
The client's allowance is definitively overstated, and an adjusting journal entry of $450,000 must be proposed.
The difference provides evidence that the client's allowance may be materially misstated due to overstatement, requiring further investigation. (correct answer)
The client's credit and collection policies are ineffective, representing a significant deficiency in internal control.

Explanation: The output from an auditor's analytical procedure provides substantive evidence, but it is not conclusive on its own. The significant difference between the auditor's expectation (the model's output) and the client's recorded amount indicates a potential risk of misstatement. The next step is to investigate the difference by inquiring with management and examining the data, assumptions, and methods they used to develop their estimate.

Question 15

A nonissuer company asks an accountant to assist with monthly financial statements, but the accountant is not independent due to a direct financial interest in the company. The company still wants a service that does not provide assurance and is acceptable under professional standards with appropriate disclosure. Which engagement is most appropriate?

Compilation under SSARS with required disclosure of lack of independence (correct answer)
Review under SSARS because independence is not required for limited assurance
Audit under AU-C because independence is optional for nonissuers
Examination under SSAE because independence is not required for attestation

Explanation: This question tests compilations under SSARS when independence is impaired. The key facts are the nonissuer status, lack of independence, no-assurance monthly statements, and disclosure requirement. The correct answer aligns with SSARS as compilations permit non-independence with disclosure. Choice B is incorrect as SSARS reviews require independence; choice C is incorrect as AU-C audits require independence; choice D is incorrect as SSAE examinations require independence. Choice A matches the allowable non-independent service. Professionals should disclose impairments in compilation reports. Choose compilations when independence issues preclude higher assurance.

Question 16

An auditor is documenting the terms for a new audit engagement with a nonissuer client that has never been audited before. The client's management is knowledgeable about business operations but has limited experience with the financial reporting and audit process.

In this situation, which of the following actions is most appropriate for the auditor to take when preparing the engagement letter?

Include more detailed descriptions of the auditor's and management's responsibilities to reduce the risk of misunderstanding. (correct answer)
Omit the section on fees and billing until the audit is substantially complete to avoid early disputes.
State that because this is a first-time audit, the auditor cannot be responsible for detecting fraud.
Require that management engage an external specialist to assist with financial statement preparation.

Explanation: When there is a risk of misunderstanding, especially with a new client inexperienced with audits, it is prudent for the auditor to make the terms in the engagement letter, particularly the respective responsibilities of management and the auditor, more detailed. Omitting fees (B) is inappropriate. Stating the auditor is not responsible for fraud (C) is a prohibited scope limitation, as the auditor always has responsibilities related to fraud under GAAS. Requiring a specialist (D) is a decision for management, not a term the auditor imposes.

Question 17

An auditor is planning an audit of a nonissuer entity that uses estimates for warranty liabilities. The entity launched a new product with limited historical claims data, and management’s estimate is based primarily on optimistic engineering assumptions. Which planning procedure is most appropriate?

Plan to test the reasonableness of the warranty estimate by evaluating management’s method, assumptions, and data, and considering alternative assumptions where appropriate (correct answer)
Treat the warranty liability as a low-risk account because it is not a cash account and therefore less susceptible to misstatement
Rely solely on management’s written representation about the warranty estimate because it is based on specialized knowledge
Wait until after the audit report is drafted to decide whether to test the warranty estimate because estimates are addressed in the completion phase

Explanation: This question tests planning for estimates with limited data under AU-C Section 540. The key facts include a new product with optimistic assumptions for warranty estimates, increasing uncertainty. Planning to test reasonableness aligns with AU-C 540, requiring evaluation of methods, data, and alternative assumptions. Treating as low risk (choice B) ignores AU-C 315, and relying on representations (choice C) violates AU-C 580. Waiting until report drafting (choice D) contradicts AU-C 300. Auditors should challenge assumptions in data-scarce estimates. This rule ensures objective evaluation of uncertain liabilities.

Question 18

An entity's internal audit function periodically audits the company's compliance with its internal control policies and reports its findings directly to the audit committee. This function is an example of which COSO component in action?

Control Environment
Control Activities
Risk Assessment
Monitoring Activities (correct answer)

Explanation: The correct answer is D. The internal audit function performing audits of controls is a form of 'separate evaluation,' which is a key part of the Monitoring Activities component. Monitoring is intended to assess whether controls are operating as intended and are effective. The internal audit function plays a crucial role in monitoring the internal control system's performance and reporting deficiencies to those charged with governance.

Question 19

A nonissuer retailer is audited on contractual-basis financial statements prepared to comply with a lender agreement. The lender agreement defines “income” in a way that excludes certain operating expenses, and management has applied the definition consistently. The auditor believes the contractual-basis statements are acceptable for the intended users but are misleading if used by general users. Based on the entity's reporting framework, which is the most appropriate reporting action?

Disclaim an opinion because contractual-basis financial statements are not an acceptable financial reporting framework
Issue an adverse opinion because the contractual basis differs from generally accepted accounting principles
Issue an unmodified opinion with no additional paragraph because intended use is irrelevant when the opinion is unmodified
Issue an unmodified opinion and include an other-matter paragraph restricting the use of the auditor’s report to the lender and other specified parties (correct answer)

Explanation: AU-C 800 addresses situations where special-purpose framework financial statements are suitable for specific users but potentially misleading to general users. When contractual-basis statements are prepared for a lender using definitions that differ materially from GAAP (excluding certain operating expenses from income), the auditor issues an unmodified opinion if the statements are fairly presented under that basis. However, an other-matter paragraph must restrict the report's use to the lender and other specified parties to prevent misuse by general users who might not understand the contractual modifications. An adverse opinion is inappropriate when statements comply with their stated framework, and disclaimers are not warranted for acceptable special-purpose frameworks. The professional judgment framework requires auditors to consider whether unrestricted distribution could mislead users unfamiliar with the contractual provisions.

Question 20

A firm performs a nonissuer audit and the engagement quality reviewer (required by firm policy due to client financial distress) identifies an unresolved disagreement with the engagement team regarding the adequacy of allowance for credit losses. The engagement partner wants to issue the report while the matter is still being debated to meet lender deadlines. Based on the firm's policies, which response is most appropriate?

Issue the audit report and document the disagreement as an open item to be resolved during the next firm monitoring inspection.
Escalate the matter within the firm and do not issue the report until the engagement quality reviewer’s concerns are resolved and conclusions are supported and documented. (correct answer)
Ask management to decide the appropriate allowance amount and accept it to avoid an audit delay, since the client is responsible for the estimates.
Communicate the disagreement only to the client’s accounts receivable supervisor because the issue is operational rather than governance-related.

Explanation: Professional standards and firm quality control policies require resolution of significant disagreements between engagement teams and quality reviewers before report issuance, particularly for matters affecting financial statement amounts. The critical issue is an unresolved disagreement about the adequacy of credit loss allowances—a significant accounting estimate—with the engagement partner prioritizing deadlines over resolution. The correct answer (B) properly requires escalation within the firm and prohibits report issuance until the reviewer's concerns are resolved and properly documented, maintaining audit quality over client pressures. Option A incorrectly permits report issuance with unresolved quality review matters, violating quality control standards. Option C inappropriately delegates auditor judgment responsibilities to management for significant estimates. Option D incorrectly limits communication to operational personnel when the matter requires engagement leadership and potentially governance attention. The decision framework mandates that engagement quality reviewer objections on significant matters must be resolved before report release, with firm escalation procedures ensuring appropriate resolution regardless of external pressures.

Question 21

A nonissuer manufacturing company is audited under AICPA standards and prepares financial statements on a regulatory basis in accordance with a state insurance department’s prescribed accounting practices. The prescribed practices differ from U.S. GAAP in several material respects, and management’s note disclosures clearly describe the basis and the differences. What factor should the auditor consider when forming an opinion?

Whether the regulatory basis is an acceptable financial reporting framework for the intended users and purpose of the statements. (correct answer)
Whether management can assert the regulatory basis is in conformity with U.S. GAAP.
Whether the auditor can eliminate all references to the regulatory basis and refer only to U.S. GAAP in the opinion paragraph.
Whether critical audit matters must be communicated because prescribed practices differ from U.S. GAAP.

Explanation: This question tests AU-C Section 800, which requires auditors to evaluate the acceptability of special-purpose frameworks like regulatory bases for the intended users and purpose. The key facts are that the regulatory basis differs materially from U.S. GAAP, with clear disclosures of the basis and differences, for a state insurance department filing. The correct answer aligns with AU-C 800 by focusing on whether the framework is acceptable for the specific regulatory purpose and users. Choice B is incorrect because management cannot assert conformity with U.S. GAAP for a differing special-purpose framework under AU-C 800, while Choice C is wrong as the opinion must reference the regulatory basis, not eliminate it. Choice D is incorrect because critical audit matters are PCAOB-specific and not required in AICPA audits. Auditors should assess if the special-purpose framework meets the needs of intended users without being misleading. A professional judgment framework is to verify that disclosures prevent confusion with GAAP and that the framework's use is justified by the reporting objective.

Question 22

Which of the following engagements would be considered an attestation engagement?

An engagement to prepare a client's tax return.
An engagement to compile a client's financial statements.
An engagement to report on an entity's compliance with laws and regulations. (correct answer)
An engagement to provide management consulting services.

Explanation: An attestation engagement is one in which a practitioner is engaged to issue a report on subject matter, or an assertion about subject matter, that is the responsibility of another party. Reporting on compliance with laws and regulations fits this definition and would be performed under the SSAEs. Tax return preparation, compilations, and consulting are not attestation engagements.

Question 23

How does the auditor's assessment of the risk of material misstatement (RMM) at the overall financial statement level affect the initial determination of planning materiality?

A high RMM results in a lower planning materiality level.
A high RMM results in a higher planning materiality level.
Planning materiality is determined independently of the initial RMM assessment. (correct answer)
A low RMM allows the auditor to use revenue as a benchmark instead of net income.

Explanation: The correct answer is C. Planning materiality (materiality for the financial statements as a whole) is determined based on the needs of the users of the financial statements. It involves selecting an appropriate benchmark and applying a percentage to it. This determination is made independently of the auditor's assessment of RMM. The RMM assessment does influence the level of performance materiality (as a percentage of planning materiality) and the nature, timing, and extent of further audit procedures, but not the initial calculation of planning materiality itself. Therefore, A and B are incorrect. D is incorrect as the choice of benchmark depends on user focus, not RMM.

Question 24

You are auditing a nonissuer company and plan to confirm cash with multiple banks using positive confirmations. Management asks the auditor to send confirmations only to banks that management identifies as “active,” claiming other accounts were closed earlier in the year. Which action should the auditor take based on this request?

Agree to management’s request because closed accounts are not relevant to year-end cash balances.
Use professional judgment to determine the banks to be confirmed, including considering independently obtained bank listings and prior-year confirmations to address completeness risk. (correct answer)
Send negative confirmations to all banks to reduce the risk of management interference.
Rely on a management representation letter as a substitute for confirming cash because management is responsible for the financial statements.

Explanation: AU-C 505.07 requires auditors to maintain control over the confirmation process, including selection of parties to be confirmed, to address completeness assertions. The key fact is that management wants to restrict confirmations only to banks they identify, potentially omitting accounts to conceal cash or loans. The correct answer (B) aligns with AU-C 505.07 and professional skepticism requirements, requiring the auditor to independently determine confirmation selections using sources like prior confirmations and bank listings to ensure completeness. Answer A is incorrect because accounts closed during the year may have had activity affecting the financial statements and help verify completeness. Answer C is incorrect because negative confirmations are inappropriate for cash confirmations, which require positive confirmation per standard practice. Answer D is incorrect because management representations cannot substitute for confirmation of cash per AU-C 330. The professional judgment framework is: maintain complete control over confirmation selections using independent sources to ensure all accounts are identified, particularly when testing completeness assertions.

Question 25

A nonissuer client engaged your firm for an audit of its financial statements. After signing the engagement letter, the client acquires a foreign subsidiary operating in a high-inflation environment, increasing accounting complexity and risk. Based on the provided facts, what modification to the engagement terms is necessary?

No modification is needed because engagement letters cannot be changed once signed; address the acquisition only in the audit planning memo
Consider revising or reissuing the engagement letter to reflect significant changes in scope or responsibilities (such as use of component auditors or additional reporting), and obtain agreement from management (correct answer)
Automatically convert the audit to a review because foreign operations increase audit risk
Apply PCAOB standards for the remainder of the engagement because the company now has international operations

Explanation: The standard tested is AU-C Section 210 on revising terms for significant changes, requiring updated agreements for scope impacts. Key facts are the nonissuer's post-letter foreign acquisition, increasing complexity. Choice B is correct per AU-C 210, mandating revisions. Choice A omits updates; choice C converts unnecessarily; choice D misapplies PCAOB. Professionals reassess terms for changes. Ethical considerations include documenting expanded risks.

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